Chapter 3

Solutions

Exercise 3.1

  1. Income from continuing operations = Income from operations + Gain on sale of FNVI investments − Income tax on income from continuing operations = $125,000 + $1,500 − $34,155* = $92,345
    * (125,000 + 1,500) × 27% = 34,155
    Net income = Income from continuing operations – Loss from operation of discontinued division (net of tax) – Loss from disposal of discontinued division (net of tax) = $92,345 − $2,500 − $3,500 = $86,345
    Other comprehensive income = Unrealized holding gain − OCI (net of tax) = $12,000
    Total comprehensive income = Net income + other comprehensive income = $86,345 + $12,000 = $98,345
  2. Under ASPE, other comprehensive income and comprehensive income do not apply.

Exercise 3.2

Quality of Earnings: In terms of earnings quality, there are issues. The company’s net income includes a significant gain on sale of idle assets, which means that a sizeable portion of earnings were not generated from ongoing core business activities. Wozzie also changed their inventory policy from FIFO to weighted average, which is contrary to the method used within their industry sector. This is cause for concern as it raises questions about whether management is purposely trying to manipulate income. A change in accounting policy is only allowed as a result of changes in a primary source of GAAP or may be applied voluntarily by management to enhance the relevance and reliability of information contained in the financial statements for IFRS. Unless Wozzie’s inventory pricing is better reflected by the weighted average method, contrary to the other companies in their industry sector, the measurement of inventory and cost of goods sold may be biased.

Investing in the Company: Investors and analysts will review the financial statements and see that part of the company’s net income results from a significant gain generated from non-core business activities (the sale of idle assets) and will also detect the lower cost of goods sold resulting from the change in inventory pricing policy disclosed in the notes to the financial statements. As a result, investors will assess the earnings reported as lower quality, and the capital markets will discount the earnings reported to compensate for the biased information. Had Wozzie not fully disclosed the accounting policy change for inventory, the market may have taken a bit longer to discount that portion of the company’s net income due to lower quality information.


Exercise 3.3

Eastern Cycles’ sale of the corporate-owned stores to a franchisee would not qualify for discontinued operations treatment because the corporate-owned stores are not a separate major line of business. Under IFRS, a component of an entity comprises operations, cash flows, and financial elements that can be clearly distinguished from the rest of the enterprise, which is not the case as stated in the question information.

Under ASPE, selling the corporate-owned stores would also not qualify for discontinued operations treatment. The corporate-owned stores are likely a component of the company, but the franchisor is still involved with the franchisees because Eastern Cycles continues to provide product to them as well as advertising, training, and support. The cash flows of Eastern Cycles (the franchisor) are still affected by those of the franchisee since Eastern Cycles collects monthly fees based on revenues.


Exercise 3.4

a.

Bunsheim Lyd.
Statement of Changes in Equity
For the Year Ended December 31,

Total

Common Shares

Comprehensive Income

Retained Earnings

Accumulated Other Comprehensive Income

Beginning balance as reported $707,000 $480,000 $50,000 $177,000
Correction of understatement in travel expenses from 2019 of $80,000 (net of tax of $21,000) (54,000) (54,000)
Beginning balance as adjusted $648,600 $480,000 $(8,400) $177,000
Comprehensive income: Net income 130,853 $130,853 130,853
Other comprehensive income: Unrealized gain - FVOCI investments[1] 25,000 25,000 25,000
Dividends declared (45,000) (45,000)
Comprehensive income $155,853
Ending Balance $759,453 $480,000 $77,453 $202,000

 

Net income = ($680,000 − $425,750 − $75,000) = 179,250 ×(1 − 27%) = $130,853
Disclosures – prior period adjustments are to be reported net of tax with the tax amount disclosed. Unrealized gain on FVOCI investments is to be disclosed net of tax with tax amount disclosed and that it may be reclassified subsequently to net income or loss.

b.

Bunsheum Ltd.
Statement of Retained Earnings
For the Year Ended December 31, 2020
Balance, January 1 as reported $50,000
Correction for understatement in travel expenses from 2019 of $80,000 (net of tax of $21,600) (58,400)
Balance, January 1, as adjusted (8,400)
Add: Net income 130,853
122,453
Less: Dividends 45,000
Balance, December 31 $77,453

Exercise 3.5

  1. Patsy Inc.
    Partial Statement of Comprehensive Income
    For the Year Ended December 31, 2020
    Income from continuing operations $1,500,000
    Discontinued operations
    Loss from operation of discontinued Calgary division (net of tax of $52,500) $(122,500)
    Loss from disposal of Calgary division (net of tax of $37,500) (87,500) (210,000)
    Net income 1,290,000
    Other comprehensive income
    Items that may be reclassified subsequently to net income or loss: Unrealized gain on FVOCI incestments (net of tax of $11,786[2]) 27,500
    Total comprehensive income $1,317,500
    Earnings per share
    Income from continuing operations[3] $30.00
    Discontinued operations (4.20)
    Net income $25.80

    Required disclosures: Items reported at their net of tax amounts must also disclose the tax amount. Earnings per share information related to income from continuing operations and discontinued operations are required under IFRS but earnings per share information related to comprehensive income are not required under IFRS.

  2. Had Patsy followed ASPE, other comprehensive income and total comprehensive income do not apply. Investments that are not quoted in an active market are accounted for at cost. This also assumes that the discontinued operations meet the definition of a discontinued operation under ASPE.

Exercise 3.6

Calculation of increase or (decrease) in shareholders’ equity:

Increase in assets: $41,670 + $15,800 + $218,400 - $46,500 + 14,000 = $243,370
Increase in liabilities: ($23,400) + 45,200 + $46,500 = 68,300
Increase in shareholders' equity: $175,070

Breakdown of shareholders’ equity account:

Net increase $175,070
Increase in common shares $87,000
Increase in contributed surplus 18,600
Decrease in retained earnings due to dividend declaration (44,000) 61,600
Increase in retained earnings due to net income $113,470

To solve algebraically use the basic accounting equation:

Assets = Liabilities + Equity

Restated:

Change in assets = change in liabilities + change in equity

243,370 = 68,300 + X(equity)

X = 243,370 − 68,300 = $175,070 change in equity

Since equity is made up of common shares + contributed surplus + retained earnings = $175,070 then:

Change in equity − change in common shares − change in contributed surplus+dividends = change in retained earnings due to net income

175,070 − 87,000 − 18,600 + 44,000 = $113,470


Exercise 3.7

($575,000 − $75,000) ÷ 66,000 = $7.58 per share


Exercise 3.8

  1. Opi Co.
    Income Statement
    For the Year Ended December 31, 2020
    Revenues
    Net sales revenue[4] $1,778,400
    Gain on sale of land 39,000
    Rent revenue 23,400
    Total revenues 1,840,800
    Expenses
    Cost of goods sold 1,020,500
    Selling expenses[5] 587,600
    Administrative expenses[6] 130,260
    Total expenses 1,738,360
    Income before tax 102,440
    Income tax 30,732
    Income from continuing operations 71,708
    Discontinued operations

    Gain on disposal of discontinued operations – South Division (net of tax of $8,268)

    19.292
    Net income $91,000

    Disclosure notes – COGS and most Other Revenue and Expense items are to be disclosed separately. Discontinued operations items are to be separately disclosed, net of tax, with tax amount disclosed.

    Opi Co.
    Statement of Retained Earnings
    For the Year Ended December 31, 2020
    Retained earnings, January 1 as reported $338,000
    Less error correction (net of tax of $4,050) 9,450
    Retained earnings, January 1, as adjusted 328,550
    Add: net income 91,000
    419,550
    Less: dividends 58,500
    Retained earnings, December 31 $361,050

    Prior period adjustments reported in retained earnings must be separately reported, net of tax with tax amount disclosed.

  2. Opi Co.
    Income Statement
    For the Year Ended December 31, 2020
    Revenues
    Net sales revenue[7] $1,778,400
    Gain on sale of land 39,000
    Rent revenue 23,400
    Total revenues 1,840,800
    Expenses
    Cost of goods sold 1,020,500
    Selling expenses[8] 587,600
    Administrative expenses[9] 130,260
    Total expenses 1,738,360
    Income before tax 102,440
    Income tax 30,732
    Income from continuing operations 71,708
    Discontinued operations

    Gain on disposal of discontinued operations – South Division (net of tax of $8,268)

    19.292
    Net income 91,000
    Retained earnings, January 1 as reported 338,000
    Less error correction (net of tax of $4,050 9,450
    Retained earnings, January 1, as adjusted 328,550
    419,550
    Less dividends 58,500
    Retained earnings, December 31 $361,050

    Disclosure notes – COGS and most Other Revenue an Expense items are to be disclosed separately. Discontinued operations items are to be separately disclosed, net of tax, with tax amount disclosed. Prior period adjustments reported in retained earnings must be separately reported, net of ta with tax amount disclosed.


Exercise 3.9

  • Ace Retailing Ltd.
    Statement of income
    For the Year Ended December 31, 2020
    Sales revenue $1,500,000
    Less cost of goods sold 750,000
    Gross profit 750,000
    Less selling and administrative expenses 245,000
    Income from operations 505,000
    Other revenues and gains
    Interest income $15,000
    Gain on sale of FFNI investments 45,000 60,000
    565,000
    Other expenses and losses
    Loss on impairment of goodwill 12,000
    Loss on disposal of equipment 82,000
    Loss from warehouse fire 175,000 269,000
    Income from continuing operations before income tax 296,000
    Income tax expense 79,200
    Income from continuing operations 216,080
    Discontinued operations
    Loss from operations, net of income tax recovery of $76,950 208,050
    Gain from disposal, net income taxes of $31,050 83,950 124,100
    Net income $91,980
    Earnings per share
    Income from continuing operations[10] $0.34
    Discontinued operations[11] (0.31)
    Net income $0.03 (rounded)
  • Ace Retailing Ltd.
    Statement of income
    For the Year Ended December 31, 2020
    Sales revenue $1,500,000
    Less cost of goods sold 750,000
    Gross profit 750,000
    Less selling and administrative expenses 245,000
    Income from operations 505,000
    Other revenues and gains
    Interest income $15,000
    Gain on sale of FFNI investments 45,000 60,000
    565,000
    Other expenses and losses
    Loss on impairment of goodwill 12,000
    Loss on disposal of equipment 82,000
    Loss from warehouse fire 175,000 269,000
    Income from continuing operations before income tax 296,000
    Income tax expense 79,200
    Income from continuing operations 216,080
    Discontinued operations
    Loss from operations, net of income tax recovery of $76,950 208,050
    Gain from disposal, net income taxes of $31,050 83,950 124,100
    Net income $91,980
    Other comprehensive income
    Items that may be reclassified subsequently to net income or loss: Unrealized gain on FVOIC investments, net of income tax of $5,022 13,578
    Total comprehensive income $105,558
    Earnings per share
    Income from continuing operations[12] $0.34
    Discontinued operations[13] (0.31)
    Net income $0.03 (rounded)
  • Ace Retailing Ltd
    Statement of comprehensive Income
    For the Year Ended December 31, 2020
    Net income $91,980
    Other comprehensive income
    Items that may be reclassified subsequently to net income or loss: Unrealized gain on FVOCI investments, net of income tax of $5,022 13,578
    Total comprehensive income $105,558
  • Ace Retailing Ltd.
    Income Statement
    For the Year Ended December 31, 2020
    Revenues
    Sales revenue $1,500,000
    Interest income 15,000
    Gain on sale of FVNI investments 45,000
    Total revenues 1,560,000
    Expenses
    Cost of goods sold 750,000
    Selling and administrative expenses 245,000
    Loss on impairment of goodwill 12,000
    Loss on disposal of equipment 82,000
    Loss from warehouse fire 175,000
    Total expenses 1,264,000
    Income from continuing operations before income tax 296,000
    Income tax 79,920
    Income from continuing operations 216,080
    Discontinued operations
    Loss from operations, net of income tax recovery of $76,950 208,050
    Gain from disposal, net of income taxes of $31,050 83,950
    124,100
    Net income $91,980
    Earnings per share
    Income from continuing operations[14] $0.34
    Discontinued operations[15] (0.31)
    Net income $(0.03) rounded
  • Items are to be reported as Other Revenue and Expenses when using the multiple- step format for the statement of income. These are revenues, expenses, gains, and losses that are not realized or incurred as part of ongoing operations (for a retail business in this case). Examples of items that do not normally recur in a retail business are:
    • Dividend revenue (from investments)
    • Gain or loss on sale or disposal of current or long-term assets (i.e., investments, property, plant, equipment, and certain intangible assets such as patents and copyrights)
    • Interest income or expense from receivables or investments
    • Impairment losses on various assets not recorded through OCI
    • Loss from fire, flood, and storm damages in areas not known for this activity
    • Loss on inventory due to decline in NRV
    • Rent revenue or other revenues not normally associated with the usual business of the company
    • Unrealized gains or losses on investments not recorded to OCI

    Note that as a rule, if the item is unusual and material, (consider size, nature, and frequency), the item is presented separately but included in income from continuing operations. If the item is unusual but immaterial, the item is combined with other items in income from continuing operations. So, there is a trade-off between additional disclosures of relevant information and too much disclosure resulting in information overload. Moreover, IFRS and ASPE reporting requirements vary and the standards change over time, so different items may need to be separately reported in one standard but not necessarily in the other standard. It is important to check the standards periodically to ensure that the latest reporting requirements are known.


Exercise 3.10

Vivando Ltd.
Income Statement (Partial)
For the Year Ended December 31, 2020
Income from continuing operations before income tax $1,891,000
Income tax 472,750
Income from continuing operations 1,418,750
Discontinued operations
Loss from operation of discontinued subsidiary (net of tax of $17,000) $(51,000)
Loss from disposal of subsidiary (net of tax of $28,150) (84,450) 135,450
Net income $1,282,800
Earnings per share
Income from continuing operations $6.30
Discontinued operations (0.60)
Net income $5.70
Income from continuing operations before income tax: As previously states $1,820,000
Gain on sale of equipment (92,000 – 33,400 – 75,000) 16,400
Settlement of lawsuit 180,200
Write-off of accounts receivable (125,600)
Restated $1,891,000

Note: The prior year error related to the intangible asset was correctly charged to opening retained earnings.


Exercise 3.11

  1. Spyder Inc.
    Income Statement
    For the Year Ended September 30, 2020
    Sales Revenue $2,699,900
    Sales revenue $21,000
    Sales returns and allowances 87,220 108,220
    Net sales revenue 2,591,680
    Costs of goods sold 1,500,478
    Gross profit 1,091,202
    Operating Expenses
    Selling expenses:
    Sales commissions expenses $136,640
    Entertainment expenses 20,748
    Freight-out 40,502
    Telephone and Internet expenses 12,642
    Depreciation expense 6,972 217,504
    Administrative expenses:
    Salaries and wages expenses 78,764
    Depreciation expense 10,150
    Supplies expense 4,830
    Telephone and Internet expense 3,948
    Miscellaneous expense 6,601 104,293 321,797
    Income from operations 769,405
    Other Revenues
    Gain on sale of land 78,400
    Dividend revenue 53,200
    901,005
    Other Expenses
    Interest expense 25,200
    Income from continuing operations before income tax 875,805
    Income tax 262,742
    Income from continuing operations 613,063
    Discounted operations
    Loss on disposal of discontinued operations – Aphfflek Division (net of taxes of $14,700) 34,300
    Net income $578,763
    Earnings per share from continuing operations

    $4.94[16]

    (0.28)[17]

    New income $4.66
  2. Spyder Inc.
    Statement of Changes in Shareholders’ Equity
    For the Year Ended September 30, 2020
    Common Shares Retained Earnings Accumulated Other Comprehensive Income Total
    Beginning balance as reported $454,000 $215,600 $162,000 $831,600
    Correction of error for depreciation expense from 2019 (net of tax recovery of $7,434) (17,346) (17,346)
    Beginning balance restated 454,000 198,254 162,000 814,254
    Comprehensive income: Net income 578,763 578,763
    Total comprehensive income 578,763 578,763
    Dividends – common shares (12,600) (12,600)
    Ending balance $454,000 $764,417 $162,000 $1,380,417
  3. Spyder Inc.
    Income Statement
    For the Year Ended September 30, 2020
    Revenues
    Net sales revenue $2,591,680
    Gain on sale of land 78,400
    Dividend revenue 53,200
    Total revenues 2,723,280
    Expenses
    Cost of goods sold 1,500,478
    Sales commissions expense 136,640
    Entertainment expense 20,748
    Freight-out 40,502
    Telephone and Internet expense[18] 16,590
    Depreciation expense[19] 17,122
    Salaries and wages expense 78,764
    Supplies expense 4,830
    Miscellaneous operating expense 6,601
    Interest expense 25,200
    Total expenses 1,847,475
    Net income from continuing operations before income tax 875,805
    Income tax 262,742
    Income from continuing operations 613,063
    Discontinued operations
    Loss on disposal of discontinued operations – Aphfflek Division (net of taxes of $14,700) 34,300
    Net income $578,763
    Earnings per share from continuing operations 4.84[20]
    from discontinued operations (0.28)[21]
    Net income

    $4.56

  4. Spyder Inc.
    Income Statement
    For the Year Ended September 30, 2020
    Net income $578,763
    Other Comprehensive Income:
    Unrealized gain on FVOCI investments (net of tax of $7,500) 17,500
    Comprehensive Income $596,263

Exercise 3.12

Garcia Corp.
Statement of Comprehensive Income
For the Year Ended December 31, Y3

Sales revenue 36,948,590
Less: cost of goods sold 29,564,100
Gross profit 7,384,490
Less selling and administrative expenses 4,658,940
Income from operations 2,725,550
Other revenues and gains
Interest income 163,255
Gain on sale of FVNI investments 103,150 266,405
2,991,955
Other expenses and losses
Loss on impairment of goodwill 325,000
Loss from hurricane damage 155,900 480,900
Income from continuing operations, before income tax 2,511,055
Income tax expense
For Y3 895,440
Tax assessment related to Y1 152,800 1,048,240
Income from continuing operations 1,462,815
Discontinued operations
Loss from operations, net of income tax recovery 165,000
Loss from disposal, net of income tax recovery 262,500 427,500
Net Income 1,035,315
Other comprehensive income
Unrealized gain on FV-OCI investment, net of tax of $80,000 240,000
Comprehensive income 1,275,315
Earnings per share $2.73
Discontinued operations -0.86
Net Income $1.87

Exercise 3.13

Chen Company
Statement of Changes in Equity
for the year Ended December 31, Y6

Common Shares Retained Earnings AOCI Total
Beginning Balance $600,000 $901,362 $241,277 $1,742,639
Net Income 20,499 20,499
Unrealized gain on FVOCI Investments 58,746 58,746
Dividends declared - 300,000 - 300,000
Ending Balance $600,000 $621,861 $300,023 $1,521,884

Exercise 3.14

Schaan Limited
Statement of Comprehensive Income
for the Year Ended December 31, Y8

Sales revenue $1,156,310
Cost of goods sold 749,746
Gross profit 406,564
Operating expenses
Selling and administrative expense 333,250
Income from operations 73,314
Gain on disposal of building 248,755
Net income 322,069
Other comprehensive income
Unrealized gain on FVOCI Investments 17,449
Comprehensive Income $339,518

Exercise 3.15

1. Multi-step income statement (by function).

Arturo Corporation
Income Statement
For the Year Ended December 31, Y7

Sales Revenue
Sales revenue $1,015,630
Less: Sales returns and allowances 14,852
Net sales revenue 1,000,778
Cost of goods sold
Inventory, January 1, Y7 $119,854
Purchases $678,410
Less: purchase discounts 9,864
Net purchases 668,546
Add: Freight-in 14,055 682,601
Goods available for sale 802,455
Inventory, December 31, Y7 138,960
Cost of Goods Sold 663,495
Gross Profit 337,283
Operating Expenses
Salaries and wages expense 72,513
Depreciation Expense - equipment 18,694
Supplies expense 8,446 99,653
Administrative expenses
Salaries and wages expense 42,154
Depreciation Expense - building 29,778
Office supplies expense 9,685 81,617 181,270
Income from operations 156,013
Other revenues and gains
Dividend revenue 20,500
Gain on sale of equipment 5,693
182,206
Other expenses and losses
Interest expense 8,945
Loss from hurriance damage 50,053 58,998
Income before tax 123,208
Income tax 34,498.24
Net income $88,709.76

2. Single step income statement (by nature)

Arturo Corporation
Income Statement
For the Year Ended December 31, Y7

Revenues
Net sales revenue $1,000,778
Dividend revenue 20,500
Gain on sale of equipment 5,693
Total revenues 1,026,971
Expenses
Cost of goods sold 663,495
Salaries and wages 114,667
Depreciation expense 48,472
Supplies expense 18,131
Interest expense 8,945
Loss from hurriance damage 50,053
903,763
Income before tax 123,208
Income tax 34,498
Net income $88,710

Notes:

Net income MUST be the same under both methods.

Cost of goods sold can be one line item with the single-step method.


Exercise 3.16

Terry Corporation
Statement of Retained Earnings
For the Year Ended December 31, Y6

Notes

Balance, January 1, Y6 $225,705 (1) Balance, January 1, Y6
Correction for depreciation error in Y4
(net of $7,968 income tax recovery) -18,592 (2) income tax recovery = $26,560 × 30%
Balance, January 1, Y6 as adjusted 207,113
Add net income 167,895 (3) $239,850 - ($239,850 × 30%)
375,008
Dividends declared 48,900
Balance, December 31, Y6 $326,108

Exercise 3.17

Martony Corporation
Statement of Changes in Equity
For the Year Ended December 31, Y9

Preferred Shares Common Shares Contributed Surplus Retained Earnings Accumulated Other Comprehensive Income Total
Beginning Balance $550,000 $659,500 $65,874 $745,963 $52,650 $2,073,987
Comprehensive Income:
Net Income 87,965 87,965
Other Comprehensive income 12,544 12,544
Dividends Paid to Shareholders:
Preferred -25,000 -25,000
Common -26,500 -26,500
Issuance of common shares - 148,500 - - - 148,500
Ending Balance $550,000 $808,000 $65,874 $782,428 $65,194 $2,271,496

  1. net of tax of $5,000. May be reclassified subsequently to net income or loss
  2. (27,500 ÷ (1 − 0.3) = $39,286 before tax. $39,286 − 27,500 = $11,786 tax)
  3. Continuing operations $1,500,000 ÷ 50,000; discontinued operations ($210,000 ÷ 50,000)
  4. $1,820,000 − $18,850 − $22,750 = $1,778,400
  5. $561,600 + $26,000 = $587,600
  6. $128,700 + $1,560 = $130,260
  7. $1,820,000 − $18,850 − $22,750 = $1,778,400
  8. $561,600 + $26,000 = $587,600
  9. $128,700 + $1,560 = $130,260
  10. ($216,080 − $82,000) ÷ 400,000 = 0.34
  11. ($124,100) ÷ 400,000 shares = (0.31)
  12. ($216,080 − $82,000) ÷ 400,000 = 0.34
  13. ($124,100) ÷ 400,000 shares = (0.31)
  14. ($216,080 − $82,000) ÷ 400,000 = 0.34
  15. ($124,100) ÷ 400,000 shares = (0.31)
  16. $613,063 ÷ 124,000 common shares
  17. $34,300 ÷ 124,000
  18. $12,642 + $3,948
  19. $6,972 + $10,150
  20. ($613,063 − $12,600) ÷ 124,000 common shares
  21. $34,300 ÷ 124,000

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